China's market intervention could derail liberalisation

Chinese policymakers have continued to intervene in the domestic equity market, but this has failed to stop the plunge and observers now fear China faces a credibility crisis.
China's market intervention could derail liberalisation

Chinese insurance companies are just the latest institutional investor group being impelled to lift their investments in mainland stocks.

This is part of the government’s all-guns-blazing move to prevent the market falling, supposedly in the interests of social stability.

But the unprecedented China stock market intervention by government and regulators failed to prevent the CSI300 index dropping a further 6.75% on Wednesday.

The market has now seen a 31% correction since June 6, from its high point of 5,341 points to yesterday's close at 3,663.

Market observers and participants are concerned that interventions of this type could set back the course of market liberalisation and have a negative spillover effect on the slowing Chinese economy.

The China Insurance Regulatory Commission (CIRC) announced on Wednesday morning that insurance companies could invest up to 10% of their total assets in one single blue chip stock, up from a previous cap of 5% and to a maximum of 40% of their overall portfolio. 

Insurance companies typically allocate 13-15% to equities, while some smaller insurers hold nearly 18%, according to Red Pulse, a Shanghai-based market intelligence platform.

China Life Insurance and the People's Insurance Company of China reportedly increased their holdings in large-cap ETFs by Rmb50 billion each on Monday.

This comes after China's sovereign investors, mutual fund companies and brokers have been actively buying Chinese stocks in the past few days. In common with other large institutions, the insurers have been told they can buy but cannot sell.

“I have not come across a government able to rescue the equity market, from history or from around the world," said one Hong Kong-based China equity fund manager, who preferred to remain anonymous. 

"Some small-sized and speculative stocks are very expensive; they should be allowed to correct and it would be for the benefit of the whole stock market,” he added.

About 83% of the Rmb1.98 trillion margin finance extended for stock market speculation as at the end of May was from retail investors, according to a Goldman Sachs research note.

“Allowing the market to correct is not a bad thing. I would appreciate if the government concentrated on the more fundamental reforms. At the end of the day, they should not have encouraged so much speculation in the first place,” said the fund manager.

While such interventions reflect the government’s political determination to stabilise the market, Tao Dong, chief China economist at Credit Suisse, suggested that China might now slow the pace of liberalising the capital account, which in turn is likely to create further obstacles for A-shares being included into the relevant MSCI indices.

“At this stage it looks like Beijing chose to focus on stablising the domestic financial market and the economy as a higher priority [than allowing markets to fluctuate naturally],” said Tao.

Lukas Daalder, chief investment officer at Robeco, explained how an equity correction might affect the broader economy: “The bursting of a bubble is a painful event. The wealth destruction, the debt overhang and bankruptcies all hamper economic growth. And even though it is a local event, we are talking about the second-largest  economy in the world."

The sell-off is not isolated to the mainland, because Hong Kong's Hang Seng Index was dragged down 10% in the last three days and the HSI return for the year has evaporated.

“It is similar to the Lehman collapse, in that it causes some indiscriminate selling as investors worry about what is going on in China," said the anonymous Hong Kong fund manager. 

Part of the selling in Hong Kong equities is due to China’s intervention in requiring institutional investors in China not to sell, and the fact that 1,400 of the more than 2,800 listed companies in Shanghai and especially Shenzhen have halted trading in the last two days. Late on Wednesday, indications were that this number was set to rise further.

This level of intervention and overt influence on the market is making foreign observers uneasy, particularly on the wider issues of integration, liquidity and the artificial nature of markets in China.

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